World View & Market Commentary. Forest first; Trees second. Focused on Real & Knowable facts that filter through the "experts" fluff and media hyperbole. Where we've been, what the future may hold and developing a better way forward.

Friday, April 3, 2009

When I look at the large bear markets of the past century, I see a few characteristics that they share. I just produced a chart of the bear market to date in percentages and will get to that in a moment.

First let me say that I believe this current crisis will prove to ultimately be FAR worse than any of the others, especially in REAL dollar terms. Our per capita debt levels are much higher than those of the late 20’s just prior to the Great Depression, and we now have derivatives that have flooded the world bringing systemic risk that has yet to be seriously addressed. In fact, despite all the happy feelings of “action” surrounding the G20 meeting, the real problems of debt and derivatives were not even discussed much less a part of their action plan. Oh, excuse me, actually their plan is to further permeate the globe with debt and derivatives, that will make it all better (sarcasm)!

Here’s a chart of the DOW during the Great Depression. The selling came in three phases, the initial plunge was the A wave, then there was a 50% B wave retrace that was followed by an orderly stair-step lower C wave into the eventual bottom that was an 89% loss from the high. Note that THE bottom did have a sharp rebound, but even it failed to exceed the prior step. It then flattened for quite some time and was well over a year before the last step’s high was exceeded (1955 before new market highs), thus again showing that there is no reason to participate in a buying panic, in fact, had you done that on any of the steps that were not THE bottom, large losses can result unless you are extremely nimble:

The next chart comes from Elliott Wave International showing the stair step decline of the C wave during the Great Depression. This chart is interesting in that it shows that at no time did any of the rallies exceed the high of the previous step. Also, there were times when the current downtrend line was broken only to have a new plunge.

I made a similar chart of the current SPX showing the moves in percentage terms (click to enlarge):

While I didn’t mean to draw that big pennant, I just noticed that it’s there and that we are just retesting the break.

If you look at the current rally and compare it to the previous ones of this bear, like the one in November or the one last March, it would appear that this one's not over and needs a little more time.

For me to be long term bullish and think something other than a typical bear market rally is occurring, we would really have to break the peak up in the 943 area. That would be different from the rest of this bear and it would be different than the decline during the Depression.

Also interesting is the math. High to low, this bear has seen a 57.7% decline, and even after a 27% rally is still down 47.2%. That means that it took a 27% rally to regain only 10% of the loss. A great lesson in how percentages work against you when you’re talking losses on a 50% or greater scale.

When I add all the percentages on that chart, it comes to 131.2% of declines and 106.5% of rally gains to date. A difference of only 24.7%, yet we are down 47%.

My takeaway? The stair step decline is continuing until we make a new high. I know there are Elliott Wave experts who believe we have begun wave B up. Many are looking for a 50% rally similar to the one during the early part of the Great Depression. To accomplish that, we would have to get to the 999 mark. It’s possible, although I think unlikely.

When you look at the largest market declines of the past century, you find that they take about 2.5 years top to bottom in the equity markets. We’re 17 months into this one, I would expect 2.5 years at a minimum, and that means April of 2010 at the earliest.

I'll leave you with Doug Short's Mega Bear Quartet. Look at the TIME at which THE bottoms occured and how long it takes to recover a meaningful percentage: